Lessons From the Evolution of 401(k) Retirement Plans for Increased Consumerism in Health Care: An Application of Behavioral Research

• Retirement and health benefits following a similar evolution: The private sector’s shift away from “traditional” company-financed pension plans toward individual 401(k) accounts illustrates how benefit decision-making and responsibility have shifted from the employer to the worker. The current trend in health care design toward “consumer-driven” health plans illustrates the same trend with health benefits.

• Health plan design is encountering the same obstacles as 401(k)s did: Efforts to make workers more involved and responsible for their health benefits have run into the same problems that 401(k) plans did: Workers tend to delay or be disengaged from both retirement and health care decisions, these issues require long-term planning, and workers see both retirement and health care decisions as complex and difficult.

• Worker behavior is driving retirement plan design: Enactment of the Pension Protection Act of 2006, which encouraged the use “default” 401(k) enrollment and investment decisions and simplified choices, represents the strongest federal endorsement of retirement plan design based on worker behaviors.

• Behavioral research can help employers design health benefits: This report looks specifically at lessons learned in the retirement realm with respect to offering workers choice, financial incentives, and more information and education. This is compared with the early evolution of consumer-driven health plans, which are still being driven solely by the market and not by legislation.

• Among the behavioral lessons learned from retirement plans:

--> More choice is not always better: Behavioral research, particularly with 401(k) retirement plans, has shown that increased choice can have negative consequences: More is not always better and may even be worse in some cases. Many people remain disengaged from matters they do not have an immediate need to address, and by the time the need becomes immediate, it is often too late. Many, if not most, workers are probably not capable of making the most appropriate retirement planning or health care choices—it is simply too difficult.

--> Education and information are not enough: Research has shown that education has resulted in little to no improvement in workers’ knowledge of retirement saving and investing. In addition, empirical evidence suggests that even when “educated” employees know, most of them fail to act on their knowledge. The heavy investment that many employers have made in retirement education and information programs often fails to produce the desired results.

--> Financial incentives don’t always work: Financial incentives, such as an employer match in a 401(k) plan and tax breaks, also fall short of motivating optimal behaviors. Despite the tax-favored status of contributions and the existence of employer matching contributions, a significant portion of eligible workers still do not contribute to a 401(k) plan.

• Careful plan design more likely to succeed: Employers can effectively overcome many of these challenges with effective retirement and health plan design. Research has shown how default choices, simplification, framing, and requiring active decisions in 401(k) plans can go a long way toward improving the decisions that workers make. Similar design factors can be applied to employment-based health plans, and plan sponsors are well advised to determine these potential effects ahead of time.